Employment Strategy Papers Trade liberalization, export orientation and employment in Argentina, Brazil and Mexico By Christoph Ernst Employment Analysis Unit Employment Strategy Department 2005/15 Employment Strategy Papers Trade liberalization, export orientation and employment in Argentina, Brazil and Mexico By Christoph Ernst Employment Analysis Unit Employment Strategy Department 2005/15 Foreword In the 1990s, Latin America was characterized by drastic changes in its development model. Inspired by the Washington Consensus, Argentina, Brazil and Mexico opted – albeit in varying degrees – in favour of a more liberal system. One major policy shift occurred from import-substitution policies involving trade barriers and capital controls, towards export- oriented growth strategies involving elimination of trade barriers and open capital markets. Export orientation was also accompanied by efforts at regional integration: Argentina and Brazil created the Southern Common Market (Mercosur) with their neighbouring countries Paraguay and Uruguay, while Mexico reinforced its trade links with the United States and Canada through its membership in the North American Free Trade Agreement (NAFTA). According to traditional trade theory, economic liberalization is meant to result in increased trade, accelerated technological change, efficiency gains and growth. It is argued that a more efficient allocation of resources will, in the long run, lead to increased welfare and will have a positive impact on employment as well as on poverty and inequality, even though negative employment effects in specific sectors may occur in the short run. Since these countries had a comparative advantage of abundant labour, one of the selling points for trade liberalization was the belief that labour would benefit, as production for export was believed to be more labour-intensive than production for the internal market. Moreover, because demand for low-skilled labour would increase relative to demand for skilled labour, it was also argued that low-skilled workers would receive greater pay increases relative to skilled workers, thus compressing the unequal income distribution that has plagued these countries, especially Brazil and Mexico, for decades. But did the new development strategy result in improved growth and employment as expected? This study describes the trade liberalization process as well as the general patterns of trade and export performance of Argentina, Brazil and Mexico and attempts to assess sectoral labour market impacts. It investigates whether the new development strategy resulted in predicted outcomes for growth and employment. The study also attempts to show which sectors were the winners and losers as a result of the policy shifts, and how these shifts affected the overall labour market. Economic opening in Argentina, Brazil and Mexico did not lead to export dynamism and had a disappointing impact on employment, even though economic opening and regional integration caused a strong increase in trade and led to a better integration into the world economy. Only Mexico experienced an export surge in manufacturing production and employment during the second half of the 1990s, mainly due to the booming maquiladora sector. However, the maquiladora industry did not develop significant links with the rest of the economy. There was no upgrading of production even for the more sophisticated exports, since the import content of exports also rose significantly. Moreover, the maquiladora industry has declined significantly since 2000 thus reducing drastically formal job creation in Mexico. Another worrying phenomenon is the decline in specialization of dynamic products vis-à-vis the world market and the remaining specialization in primary, semi-processed primary or low value-added goods, in particular in Argentina, but also in Brazil. The direct impact of increased imports on employment in the manufacturing sector was both positive and negative depending on the industry during the second half of the 1990s, but its indirect impact was negative as a result of industrial restructuring and a rise in labour productivity, in particular in Argentina and Brazil. This led to a general decrease in demand for labour in manufacturing, but also to a wage shift in favour of skilled workers, as illustrated clearly in the automobile sector of Argentina and Brazil. SMEs were the major losers of the new development strategy, as they were not able to benefit from new export opportunities, due to lack of financial resources and technical support. In Mexico, the opening of the domestic market to highly subsidized US products had a disastrous impact on employment in agriculture and represented another setback of trade opening. This shows that sequencing and appropriate targeting of the economic opening process is crucial in avoiding high social adjustment costs. Even though economic opening has not produced the desired results with regard to employment at a first stage, an export orientation strategy still has the potential to contribute to quality employment creation. The efforts towards better integration into the world market should continue in strength as it has the potential to yield higher welfare for the whole population as shown in the case of industrial clustering or third generation maquiladoras. A better integration into the world economy is crucial, but so is the domestic market, in particular for employment, which is an important element to guarantee sustainable growth and equitable development. This working paper forms part of the comparative study on employment creation in Argentina, Brazil and Mexico, undertaken by the Employment Analysis and Research Unit of the Employment Strategy Department. The objective of this study is to propose recommendations, for submission to the social partners, with respect to the creation of employment in these countries, based on an analysis of four policy areas: macroeconomic policy, trade, industrial and regional policy, labour market policies and social dialogue. The study is part of the implementation of the Global Employment Agenda, the employment arm of Decent Work. Rizwanul Islam Director Employment Strategy Department Contents Page Foreword Contents Acronyms 1. Introduction ....................................................................................................................... 1 2. Trade liberalization and regional integration ................................................................. 1 3. Trade by origin ................................................................................................................... 6 4. Export specialization and employment .......................................................................... 11 5. Imports, increased competition and its impact on the labour market ........................ 18 6. Implications of trade liberalization for domestic companies ....................................... 23 7. FDI and trade ................................................................................................................... 25 8. Conclusions ....................................................................................................................... 28 Notes ....................................................................................................................................... 31 Bibliography .......................................................................................................................... 35 Annex: Tables ....................................................................................................................... 39 Table 1: Competitive matrix compared with world and regional markets, 1985-2000 ..................................................................................................... 39 Table 2: Labour intensity per country, five lowest and highest labour- intensive product groups in manufacturing .................................................. 41 Growth accounting approach .................................................................................................. 42 Tables and Figures in the document Table 1: Evolution of average unweighted import tariffs, 1987-2001 (percentages) ............... 2 Table 2: Evolution of exports and imports (percentages) ........................................................ 6 Table 3: Destination and origin of imports and exports, percentage share of total exports/imports, 1990-2002 ............................................................................. 10 Table 4: Main manufacturing exports and their labour market impact, 1995-2000 ................................................................................................................. 12 Table 5: Evolution of number of products within the competitiveness matrix, 1985-99 ........................................................................................................ 15 Table 6: Rising and declining products in the world and regional markets, and their employment impact ................................................................................... 16 Table 7: Industries most exposed to imports and the evolution of the labour market, 1995-2000 ..................................................................................... 19 Table 8: Decomposition on employment growth: productivity, domestic coefficient and domestic absorption, by main activities, 1995-2000 ....................... 21 Table 9: Summary: Trade and labour market variables .......................................................